We all know that a business is more than just generating revenue and profits; it needs to manage its working capital efficiently. As the backbone of any company’s financial metric, the money that a business uses to run its operations on a day-to-day basis should be an owner’s crucial focus. With the U.S. economy creeping into a higher yield inflation zone and increasing raw material costs, working capital strategies and solutions are essential to keeping operational expenses low. As a result, businesses must adopt the latest working capital strategies to maximize and improve their cash flow. This article aims to provide an overview of the working capital strategies that credit unions can offer to their business members to optimize cash flow.
The recipe for cash conversion cycle
Let’s review the effectiveness of working capital strategies to better understand the input factors that build the Cash Conversion Cycle (CCC). The CCC represents the time required to convert cash outflows related to inventory production to cash inflows associated with the business’ Account Receivable collection. In other words, the Cash Conversion Cycle is the estimated time it takes for a company to pay for its raw materials to the point in its operating cycle when it receives the payment for a finished good. Therefore, for a business to optimize and effectively manage its working capital, the company must streamline and influence for a lower CCC target.
The formula for the Cash Conversion Cycle follows DIO + DSO – DPO.
Days Sales Outstanding (DSO) and receivables acceleration strategies
Days Sales Outstanding represents the average time for a business to collect funds from a customer after selling a finished product or service. With the goal of reducing DSO, business members can turn to your credit union for the tools to assist in the acceleration of their DSO. Considering the numerous payment options now available for consumers to transact, a credit union can help a business member adapt to accepting and receiving those various payment methods.
Electronic and digital payment methods are preferred due to the speed of deposits and the abundant information reporting associated with them. However, there will be cases when a business cannot stray away from accepting paper check payments. If business members are reluctant or unable to switch to an electronic payment acceptance landscape, your credit union can offer receivables solutions such as desktop Remote Deposit Capture (RDC) or lockbox processing. Both solutions will accelerate a company’s settlement times and ultimately enhance its receivables process by significantly lowering the different types of floats.
Days Payables Outstanding (DPO) and payables extension strategies
Days Payables Outstanding highlights the average time it takes from securing raw materials or other inputs to paying the suppliers/vendors. It is crucial for businesses to find ways to extend their DPO and ultimately lower the CCC. Of the three CCC factors, a company will have the most control in managing its DPO. As a result, credit unions will have the highest impact on their business member’s DPO based on the payables solutions offered, such as a corporate card program or Automated Clearing House (ACH) origination. Both payment solutions provide:
- Immediate monitoring and management of transactions.
- Timely access to information reporting.
- Strategic extension of a company’s DPO.
As a credit union leader, it is vital to help your business members tackle the traditional paper check method and enable their payment process to be independent of checks.
Days Inventory Outstanding (DIO) and inventory management solutions
Lastly, Days Inventory Outstanding provides an estimated timeframe for when raw materials and other inputs result in the sale of finished goods or services. Naturally, manufacturing and construction companies have higher DIO timeframes given the extended product lifecycles within the respective industries. Alternatively, service- related businesses have a much shorter DIO due to limited inventory and minimal raw material inputs.
Since most of the inventory management process revolves around a company’s production process, credit unions have minimal solutions to help streamline this process. However, with the current material shortage we see today, businesses could face supply chain challenges increasing in work-in-progress and DIO. Also, these supply chain problems could result in a deficit or delay in projected sales payments. As an opening to grow your credit union’s business lending portfolio, financing can effectively solve your business members’ supply chain challenges.
Tying it all together
Working capital optimization and cash conversion efficiency are both an art and a science. A company’s cash flow is a vital measurement of its financial health and a tool for success. The adoption of working capital strategies will help your business members to improve their cash flow and generate more profit. For the first time over the last 25-years, the inflation yield has surpassed 8%, and the Consumer Price Index (CPI) is approaching the highest point it has ever been at 289. By implementing an efficient working capital process, business owners will reduce the impact of their cash flow and allow them to focus on other important business decisions.
Your business members must seek ways to create efficiencies in time and cash flow while protecting themselves from the ongoing economic risks. As finance professionals, your credit union’s solutions and expertise will help your business members effectively strategize and continue to efficiently exceed their financial goals.
How we can help
Implementing a treasury management program for your credit union can be a daunting task. Now, you can partner with Tru Treasury to help your leadership team launch your comprehensive platform. We will help your credit union address your business members’ working capital opportunities, generate additional fee and deposit revenue, attract new prospective business members, retain current business members, compete with banks, and provide a valued service. To learn more, visit us at trutreasury.com.